A merchant cash advance is a form of financing that should be avoided like the plague. Over the years, we’ve seen a number of struggling businesses fall victim to these predatory lenders. Don’t be one of them.
Merchant Cash Advances are NOT loans
When they reach out to you and position their products, they sound like loans. They look like loans. But, these are NOT loans.
In the aftermath of the financial crisis, banks were cutting back on lending just when small businesses needed cash the most. Companies such as Yellowstone stepped in. They got around lending regulations by calling what they did “merchant cash advances,” not loans– Bloomberg
Even judges will admit there is very little distinction between the two, but unfortunately, there are very big differences in the consequences.
They know all the selling tricks in the books
They hire anyone who can sell, and scruples of those agents are highly questionable.
The best brokers earned tens of thousands of dollars a month, former employees say; others slept at the office, fought, sold loose cigarettes, and stole from each other.– Bloomberg
The most notorious tactic is the bait & switch. It typically starts with an unsolicited fax or e-mail offering a large loan at a low rate. Once you respond, they generally say that in order to qualify for the bigger loan, you have to accept a smaller amount and make a few payments as a trial. Then, the hammer falls. For example, Bloomberg reports on one poor couple.
The advance turned out to be for $36,762, repaid in $800 daily debits from their bank account starting the day after they got the money. This would continue for about three months until they’d repaid $59,960. But when he followed up the next month to inquire about the status of the bigger loan, he got no response.– Bloomberg
Merchant Cash Advances can have APR (annual percentage rates) of up to 400%
Say what? Yes, that’s true. It’s usury at its worst. Because they are merchant cash advances, the percentage rate in the forms they send you are NOT the APRs. For example, one of our clients reached out to us after getting themselves into trouble with Yellowstone Capital. According to Bloomberg, they are one of the worst.
In that agreement, Yellowstone stated a “specified percentage” of 25%. It sure looks like an interest rate, right? Wrong. It’s definitely not. In the agreement, they state the amount given and then, the amount owed. Thus, they’re betting on you not knowing how to do the math, and mistakenly assuming the specified percentage is the interest rate.
For instance, this client was paying $19,000 in interest in 6 mos. on a $40,000 advance. In no universe, does that equal 25% APR. In other words, if you do the math, the APR was around 120%. Another client came to us, after getting into trouble with a loan with an APR of 67%.
In the Bloomberg example for instance, the APR for that loan was 350%. In comparison, our clients got off easy although it nearly bankrupted them.
Merchant Cash Advance lenders can ruin you
The most damaging way they can affect you is through an obscure law called confessions of judgments. To obtain funds from these merchant cash advance lenders, you usually sign a clause agreeing to a confession of judgments. What is it? It’s a way to collect a debt without the fuss of a trial. How do they work? Bloomberg has a great graphic.
Within a few days, your bank accounts can be drained. Liens will be put on any of your accounts receivables. Liens can also be put on your personal assets if you signed any personal guarantees for the advance. While not enforceable in all states, it is a well-used tactic in New York State, where these laws are enforceable. Because of this, most of these lenders are based in New York. And, if you read the contract in detail, you will undoubtedly find that the contract states that it will be governed by the laws of New York State.
As the chart shows, the use of this tactic has skyrocketed since 2014
Why isn’t anything being done to stop merchant cash advances?
There is action in Congress, but the government process is slow. Plus, it faces an uncertain future in the Trump administration.
Velazquez, chairwoman of the committee [House Small Business Committee], and Roger Marshall, a Republican from Kansas, have introduced a bill that would ban confessions of judgment in business loans. Ohio Democrat Sherrod Brown and Florida Republican Marco Rubio have made a similar proposal in the Senate.– Washington Post
What’s the moral of this sad story?
Get help before your financial situation makes you desperate. Merchant cash advance lenders prey on the hopes of small business owners who are having financial difficulty. We have written several posts that can help us find the right financing for you: “How to Take the Pain Out of Getting a Loan”, “Securing a Loan: Top Tips for Small Business”, “Small Business Lending is Booming”, “Best Small Business Loans & How to Qualify for Them”, and “How to Avoid Looking Stupid When Talking to Banks”.
As Shane Heskin put it beautifully in the Washington Post article, small business owners aren’t bankers and lawyers.
“My clients are very good at what they do. They know how to fix a boat. They know how to install a sink,” said Shane Heskin, a lawyer at White & Williams LLP in Philadelphia who represents small-business borrowers. “But that doesn’t mean they know how to read a contract in 8-point font. It doesn’t mean they know the legal ramifications of signing a confession of judgment.”
There are plenty of sources for help. We cover them in our post “How to Learn about Business for Free,” and we can help you with much more than just that.